401k Resource Guide: General Distribution Rules

401(k) Resource Guide

General Distribution Rules

Generally, distributions of elective deferrals cannot be made until one of the following occurs:

  • You die, become disabled, or otherwise have a severance from employment.
  • The plan terminates and no successor defined contribution plan is established or maintained by the employer.
  • You reach age 59½ or incur a financial hardship.

Depending on the terms of the plan, distributions may be:

  • Nonperiodic, such as lump-sum distributions or
  • Periodic, such as annuity or installment payments.

In certain circumstances, the plan administrator must obtain your consent before making a distribution. Generally, if your account balance exceeds $5,000, the plan administrator must obtain your consent before making a distribution. Depending on the type of benefit distribution provided under your 401(k) plan, the plan may also require the consent of your spouse before making a distribution. Your plan may provide that rollovers from other plans are not included in determining whether your account balance exceeds the $5,000 amount.

If a distribution in excess of $1,000 is made, and you (or your designated beneficiary) do not elect to (i) receive the distribution directly or (ii) make an election to roll over the amount to an eligible retirement plan, the plan administrator is required to transfer the distribution to an individual retirement plan of a designated trustee or issuer and must notify you (or your beneficiary) in writing that the distribution may be transferred to another individual retirement plan.

Distributions from your 401(k) plan are taxable unless the amounts are rolled over as described below in the section titled, “Rollovers from your 401(k) plan.” More information on the optional methods can be found in IRS Publication 575, Pension and Annuity Income, and in the IRS Form 4972 Instructions, Tax on Lump-Sum Distributions.

Required distributions.

A 401(k) plan must provide that you will either:

  • Receive your entire interest (benefits) in the plan by the required beginning date (defined below), or
  • Begin receiving regular periodic distributions by the required beginning date in annual amounts calculated to distribute your entire interest (benefits) over your life expectancy or over the joint life expectancy of you and your designated beneficiary (or over a shorter period).

These required distribution rules apply individually to each qualified plan. You cannot satisfy the requirement for one plan by taking a distribution from another plan. The plan document must provide that these rules override any inconsistent distribution options previously offered.

Minimum distribution. If your account balance is to be distributed, the plan administrator must determine the minimum amount required to be distributed to you each calendar year. Information to help you figure the minimum distribution amount is included in IRS Publication 575.

The required beginning date is April 1 of the first year after the later of the following years:

  • Calendar year in which you reach age 70½.
  • Calendar year in which you retire.

However, a plan may require you to begin receiving distributions by April 1 of the year after you reach age 70½, even if you have not retired.

If you are a 5% owner of the employer maintaining the plan, then you must begin receiving distributions by April 1 of the first year after the calendar year in which you reach age 70½. Additional information to help you determine your required beginning date is included in IRS Publication 575.

Distributions after the starting year. The distribution required to be made by April 1 is treated as a distribution for the starting year. (The starting year is the year in which you reach age 70 ½ or retire, whichever applies, to determine your required beginning date, above.) After the starting year, you must receive the required distribution for each year by December 31 of that year. If no distribution is made in the starting year, required distributions for 2 years must be made in the next year (one by April 1 and one by December 31).

Distributions after participant’s death. IRS Publication 575 includes information to help you understand the special rules covering distributions made after the death of a participant.

Hardship distributions.

A 401(k) plan may allow you to receive a hardship distribution because of an immediate and heavy financial need. Hardship distributions from a 401(k) plan are limited to the amount of the employee’s elective deferrals and generally do not include any income earned on the deferred amounts. If the plan permits, certain employer matching contributions and employer discretionary contributions may also be included in hardship distributions. Hardship distributions cannot be rolled over to another plan or IRA.

A distribution is treated as a hardship distribution only if it is made on account of the hardship. For purposes of this rule, a distribution is made on account of hardship only if the distribution is made both on account of an immediate and heavy financial need of the employee and is necessary to satisfy that financial need. The determination of the existence of an immediate and heavy financial need and of the amount necessary to meet the need must be made in accordance with nondiscriminatory and objective standards set forth in the plan.

A distribution on account of hardship must be limited to the distributable amount. The distributable amount is equal to your total elective deferrals as of the date of distribution, reduced by the amount of previous distributions of elective contributions.

Immediate and heavy financial need. Whether an employee has an immediate and heavy financial need is to be determined based on all relevant facts and circumstances. A distribution made to an employee for the purchase of a boat or television would generally not constitute a distribution made on account of an immediate and heavy financial need. A financial need may be immediate and heavy even if it was reasonably foreseeable or voluntarily incurred by the employee.

A distribution is deemed to be on account of an immediate and heavy financial need of the employee if the distribution is for:

  • Expenses for medical care previously incurred by the employee, the employee’s spouse, or any dependents of the employee or necessary for these persons to obtain medical care;
  • Costs directly related to the purchase of a principal residence for the employee (excluding mortgage payments);
  • Payment of tuition, related educational fees, and room and board expenses, for the next 12 months of post-secondary education for the employee, or the employee’s spouse, children, or dependents;
  • Payments necessary to prevent the eviction of the employee from the employee’s principal residence or foreclosure on the mortgage on that residence;
  • Funeral expenses; or
  • Certain expenses relating to the repair of damage to the employee’s principal residence.

Distribution necessary to satisfy financial need. A distribution may not be treated as necessary to satisfy an immediate and heavy financial need of an employee to the extent the amount of the distribution is in excess of the amount required to relieve the financial need or to the extent the need may be satisfied from other resources that are reasonably available to the employee.
This determination generally is to be made on the basis of all relevant facts and circumstances. The employee’s resources are deemed to include those assets of the employee’s spouse and minor children that are reasonably available to the employee. Thus, for example, a vacation home owned by the employee and the employee’s spouse, whether as community property, joint tenants, tenants by the entirety, or tenants in common, generally will be deemed a resource of the employee. The amount of an immediate and heavy financial need may include any amounts necessary to pay any federal, state, or local income taxes or penalties reasonably anticipated to result from the distribution.

An immediate and heavy financial need generally may be treated as not capable of being relieved from other resources reasonably available to the employee if the employer relies upon the employee’s written representation, unless the employer has actual knowledge to the contrary, that the need cannot reasonably be relieved:

  • Through reimbursement or compensation by insurance or otherwise;
  • By liquidation of the employee’s assets;
  • By cessation of elective contributions or employee contributions under the plan; or
  • By other distributions or nontaxable (at the time of the loan) loans from plans maintained by the employer or by any other employer, or by borrowing from commercial sources on reasonable commercial terms in an amount sufficient to satisfy the need.

A need cannot reasonably be relieved by one of the actions listed above if the effect would be to increase the amount of the need. For example, the need for funds to purchase a principal residence cannot reasonably be relieved by a plan loan if the loan would disqualify the employee from obtaining other necessary financing.

A distribution is deemed necessary to satisfy an immediate and heavy financial need of an employee if all of the following requirements are satisfied:

  • The distribution is not in excess of the amount of the immediate and heavy financial need of the employee.
  • The employee has obtained all distributions, other than hardship distributions, and all nontaxable (at the time of the loan) loans currently available under all plans maintained by the employer.
  • The employee is prohibited, under the terms of the plan or an otherwise legally enforceable agreement, from making elective contributions and employee contributions to the plan and all other plans maintained by the employer for at least 6 months after receipt of the hardship distribution.

If you’ve made hardship distributions to participants in your 401(k) plan that haven’t followed your plan or the hardship distribution rules, find out how you can correct this mistake.

Rollovers from your 401(k) plan.

A rollover occurs when you receive a distribution of cash or other assets from one qualified retirement plan and contribute all or part of the distribution within 60 days to another qualified retirement plan or traditional IRA. This transaction is not taxable but it is reportable on IRS Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. and your federal tax return. You can roll over most distributions except for:

  • A distribution that is one of a series of payments based on life expectancy or paid over a period of ten years or more,
  • A required minimum distribution,
  • A corrective distribution,
  • A hardship distribution, or
  • Dividends on employer securities.

Any taxable amount that is not rolled over must be included in income in the year you receive it. If the distribution is paid to you, you have 60 days from the date you receive it to roll it over. Any taxable distribution paid to you is subject to mandatory withholding of 20%, even if you intend to roll the distribution over later. If the distribution is rolled over, and you want to defer tax on the entire taxable portion, you will have to add funds from other sources equal to the amount withheld. You can choose to have your 401(k) plan transfer a distribution directly to another eligible plan or to an IRA. Under this option, no taxes are withheld.

If you are under age 59 ½ at the time of the distribution, any taxable portion not rolled over may be subject to a 10% additional tax on early distributions (described below).

For further information about rollovers and transfers, refer to IRS Publication 575, Pension and Annuity Income and IRS Publication 560, Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans).

Tax on early distributions.

If a distribution is made to you under the plan before you reach age 59½, you may have to pay a 10% additional tax on the distribution. This tax applies to the amount received that you must include in income.

Exceptions. The 10% tax will not apply if distributions before age 59 ½ are made in any of the following circumstances:

  • Made to a beneficiary (or to the estate of the participant) on or after the death of the participant,
  • Made because the participant has a qualifying disability,
  • Made as part of a series of substantially equal periodic payments beginning after separation from service and made at least annually for the life or life expectancy of the participant or the joint lives or life expediencies of the participant and his or her designated beneficiary. (The payments under this exception, except in the case of death or disability, must continue for at least 5 years or until the employee reaches age 59½, whichever is the longer period.),
  • Made to a participant after separation from service if the separation occurred during or after the calendar year in which the participant reached age 55,
  • Made to an alternate payee under a qualified domestic relations order (QDRO),
  • Made to a participant for medical care up to the amount allowable as a medical expense deduction (determined without regard to whether the participant itemizes deductions),
  • Timely made to reduce excess contributions,
  • Timely made to reduce excess employee or matching employer contributions,
  • Timely made to reduce excess elective deferrals, or
  • Made because of an IRS levy on the plan.
  • Made on account of certain disasters for which IRS relief has been granted.

Reporting the tax. To report the tax on early distributions, you may have to file IRS Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts. See the IRS Form 5329 instructions for additional information about this tax.

Loans from 401(k) plans.

Some 401(k) plans permit participants to borrow from the plan. The plan document must specify if loans are permitted. A loan from your employer’s 401(k) plan is not taxable if it meets the criteria below.

Generally, if permitted by your plan, you may borrow up to 50% of your vested account balance up to a maximum of $50,000. The loan must be repaid within 5 years, unless the loan is used to buy your main home. The loan repayments must be made in substantially level payments, at least quarterly, over the life of the loan.

You must reduce the $50,000 amount, above, if you already had an outstanding loan from the plan (or any other plan of your employer or related employer) during the 1-year period ending the day before the loan. The amount of the reduction is your highest outstanding loan balance during that period minus the outstanding balance on the date of the new loan.

Certain participant loans may be treated as taxable distributions. For more information, refer to the section, “Loans Treated as Distributions,” in IRS Publication 575.

If you’ve made loans from your 401(k) plan that exceeded the limits or you haven’t followed your plan terms about loans, find out how you can correct this mistake.

Before you borrow from your 401(k) plan!

Have you considered other loan sources? Borrowing from your plan may have a negative impact on the earnings of your account and reduce the money you will eventually have available for your retirement.


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